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Lesson 6

This document defines and provides examples of simple annuities. It discusses the basic concepts of annuities including payment intervals, periodic payments, and terms. It describes ordinary annuities, annuities due, and deferred annuities. It provides formulas to calculate the amount and present value of an ordinary annuity and illustrates these formulas with examples. Finally, it includes sample problems applying annuity concepts.

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Jean Leyson
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52 views10 pages

Lesson 6

This document defines and provides examples of simple annuities. It discusses the basic concepts of annuities including payment intervals, periodic payments, and terms. It describes ordinary annuities, annuities due, and deferred annuities. It provides formulas to calculate the amount and present value of an ordinary annuity and illustrates these formulas with examples. Finally, it includes sample problems applying annuity concepts.

Uploaded by

Jean Leyson
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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SIMPLE ANNUITIES

Basic Concepts and Terminologies


An annuity is a sequence of equal payments made at equal intervals of time. The
intervening time between consecutive payments is called the payment interval, the value of each
payment is the periodic payment, denoted by R, whereas the period from the first payment to the
last one is called the term of the annuity.
For instance, in an annuity that pays P300 every month for 2 years, the payment interval is
one month, the term of annuity is 2 years, and the periodic payment, R, is P 300.
Payments may be made daily, monthly, quarterly, semiannually and annually. Some
examples of annuities are: daily payments in the case of payable daily, semimonthly wages in the
case of employees, monthly payments of a lot’s amortization, annual premium on a life insurance
policy, periodic pensions, yearly payments of vehicle insurance premiums, etc.
Annuities are classified into annuity certain and annuity uncertain or contingent annuity.
1. An annuity is an annuity in which payments begin and end on a definite or fixed date.
Installment payments form an annuity certain.
2. An annuity uncertain or contingent annuity, on the other hand, is one whose payments
extend over period of time, the length of which cannot be foretold accurately. Pensions and
periodic life insurance premium payments form an annuity uncertain. Contingent annuities
will be treated in later chapters. Moreover, we shall consider only the simple case, that is,
annuities in which the payment interval is the same as the interest period.
There are three kinds of annuity certain; namely:
1. Ordinary annuity is an annuity in which payments are made at the end of each payment
interval.
2. Annuity due is an annuity in which payments are made at the beginning of each period.
3. Deferred annuity in which the first payment does not begin immediately nor at the end of
the first period but at some later time. The length of time from the present to the beginning
of the first payment interval is called the periodic of deferment.
Amount and Present Value of an Ordinary Annuity
The amount of an ordinary annuity, denoted by S, is the sum of the compound amounts of
the several payments each accumulated at the end of the term, while the present value of an
annuity, denoted by A, is the sum of the present values of several payments, each discounted to
the beginning of the term.
A and S are related by the equations
A = S(1 + i)−𝑛 and S = A(1 + i)𝑛
where, A is the present value of S due in n periods and
S is the amount of A for n periods

ILLUSTRATIVE EXAMPLE
Consider an ordinary annuity of P1000 per year payable for 5 years with money worth
12%, To find the amount S of the annuity, accumulate the payment of each period to the end of 5
years, then add the accumulations.
To find the present value of an annuity, discount each payment, then add the results.
Ordinary Annuity Formulas
To derive the amount S of an ordinary annuity of R, payable in n period, let i be the rate
per period, accumulate all payments.
Periodic Payment of an Ordinary Annuity
Another example,
ACTIVITY NO. 6

1. Maria bought a sala set. She paid P3,600 as down payment and promised to pay P500 at
the end of each 3 months for 2 years. What is the cash equivalent of the sala set if the
interest rate is 12% compounded quarterly?

2. Find the amount and present value of an annuity of P2, 870 payable every end of 3 months
for 6 years and 6 months, if money is worth 6% compounded quarterly.

3. How much should be invested each year in a fund paying 12% effective to accumulate P25,
900 in 6 years?

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